The U.S. Federal Reserve has announced that it will raise its benchmark interest rate for the third time this year, reflecting the Fed's confidence in the strengthening of the U.S. economy and the falling unemployment rate. How does this decision impact businesses and individuals? We asked Paul Single, managing director and senior portfolio manager at City National Rochdale, to explain.
Q: What should we know about this rate increase?
A: First, it was highly anticipated. It was the third of three rate hikes the Fed had planned for 2017. It also marks the fifth increase in the cycle, for a total of 1.25 percentage points.
This 0.25 percent increase – to 1.375 percent from 1.125 percent – will probably cause a like move in the prime interest rate and maybe a few other interest rates like credit cards, adjustable-rate mortgages and home equity lines of credit. But it shouldn't affect lending very much. Savers, on the other hand, will enjoy the extra income.
Interestingly, since the Fed began raising the federal funds rate back in December 2015, longer-term interest rates (10-year) have moved up just 0.05 percent. The lack of movement is primarily due to the tepid rate of inflation and global quantitative easing.
Q: What else happened at the Fed meeting?
A: The Fed has gained confidence in the economy. They increased their GDP projection for 2018 to 2.5 percent from 2.1 percent. They also revised their unemployment rate projection downward to 3.9 percent from 4.1 percent. This may reflect some policymakers' view of the new tax reform package making its way through Congress now.
Q: What about the markets?
A: The markets do not seem concerned at this point. The slow and steady pace of this rate hike process, along with the Fed allowing some of the securities in their holdings to mature (a planned reduction of securities bought during quantitative easing) has yet to put enough upward pressure on interest rates to worry the markets.
Q: How will the incoming Fed chair, Jerome “Jay" Powell, differ from the current Fed chair, Janet Yellen?
A: Powell does not appear likely to make significant policy changes. The Fed, under Yellen's leadership for the past four years, has done a remarkable job guiding monetary policy. They ended quantitative easing, raised short-term interest rates and began the process of reducing their balance sheet. During that time, the stock market has continued to log new highs.
Her replacement has been a member of the Fed's Board of Governors for the past five years. He is a trained lawyer and has worked closely with Chair Yellen during his tenure. He has stated his commitment to the current policy stance and is scheduled to assume his new role in February.
Q: Will the rate increase affect the global economy?
A: Not significantly. The U.S. Fed is one of the few central banks that has started tightening monetary policy. Accommodative monetary policies around the world have contributed to the strengthening global economic landscape over the past year.
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